Business context and reporting period
Addentax Group Corp. filed this unaudited Form 10-Q for the quarter ended December 31, 2020, covering the three- and nine-month periods ended that date. The China-based company operates garment manufacturing, logistics, property management and subleasing, and epidemic-prevention supplies businesses. The nine-month results include newly developed epidemic-supplies and property businesses; the company also disposed of subsidiaries DT and HPF during the period.
Financial performance and condition
- Nine-month revenue: $21.01 million, up 156.8% from $8.18 million. Epidemic-prevention supplies contributed $11.87 million (56.5%); garments contributed $5.19 million; logistics contributed $3.66 million; property services contributed $0.29 million.
- Nine-month profitability: Cost of revenue was $22.78 million, producing a gross loss of $1.76 million (gross margin -8.4%), versus gross profit of $0.96 million (11.7% margin) a year earlier. Operating loss was $3.59 million and net loss was $3.56 million, compared with prior-year net loss of $0.95 million. Basic and diluted loss per share was $0.14.
- Quarterly results: Revenue was $3.41 million, down 15.3% year over year. The financial statements report gross profit of $0.46 million (13.5% margin), operating loss of $0.29 million, and net loss of $0.30 million; quarterly loss per share was $0.01.
- Cash flow: Nine-month operating cash outflow was $3.78 million and investing cash outflow was $1.09 million; financing provided $4.72 million. Cash declined to $356,728 from $531,681 at March 31, 2020.
- Liquidity and obligations: Current assets were $4.78 million against current liabilities of $12.66 million, a $7.88 million net current liability position. Total liabilities were $20.34 million and total equity was a deficit of $3.07 million. Related-party borrowings of $6.45 million are unsecured, non-interest-bearing, and payable on demand. Bank borrowing was $153,172, due March 31, 2021. Operating lease liabilities totaled $11.60 million, including $3.92 million current.
- Capital and other metrics: The company issued 747,000 shares at $5 each in August 2020, raising $3.735 million. As of February 22, 2021, 26,093,004 common shares were outstanding.
Material changes versus the prior comparable period
- Nine-month revenue more than doubled, principally from the new epidemic-supplies business and increased garment capacity. However, epidemic-supplies cost of revenue exceeded segment revenue by $2.92 million, driving the consolidated gross loss.
- Logistics revenue declined 21.5% for the nine months, which management attributed to COVID-19 disruption; logistics gross margin improved to 19.7% from 13.3%, partly as the company used fewer subcontractors.
- Quarterly revenue fell 15.3%, mainly because of lower logistics and garment revenue. The new property segment generated $294,759 in quarterly revenue.
- Operating cash outflow increased from $1.06 million to $3.78 million. Lease right-of-use assets rose to $11.60 million from $1.84 million, alongside substantial new lease obligations.
- DT and HPF were disposed of at carrying value, with no gain or loss recognized. Their operations, customers, and suppliers were retained by the company; the disposals were not treated as discontinued operations.
Outlook, commentary, risks, and unusual items
- Management states that substantial doubt exists about the company’s ability to continue as a going concern, citing losses, net current liabilities, and the need for additional working capital. Management expects to rely on operating cash flow and financing support from the CEO; the CEO indicated an intent and ability to provide additional equity financing, but this is not described as a committed facility.
- Management says it cannot reasonably estimate the full financial impact of COVID-19. It is reducing costs and working with creditors to align repayments with collections. Stated objectives include expanding the logistics network and increasing mall occupancy above 70%; no consolidated financial guidance is provided.
- Management attributed the epidemic-supplies segment loss to rapidly rising material costs while customer contract selling prices were fixed. In the quarter, selling expense included $200,000 of free goods used as marketing.
- Customer and supplier concentrations are notable: one customer represented 49.6% of nine-month company revenue, and the five largest suppliers represented 100% of purchases in the epidemic-supplies and property segments. Garment receivables were especially concentrated, with Customer A at 97.2% at December 31.
- The company operates in China and identifies COVID-19, economic and political conditions, currency movements, customer and supplier credit, and collection risk as exposures. Nine-month foreign-currency translation loss was $173,879.
- Management concluded disclosure controls and procedures were not effective, in light of material weaknesses in internal control over financial reporting. No material control changes were reported during the period. The filing reports no material pending legal proceedings and no off-balance-sheet arrangements.
Important facts for investors to verify
- Reconcile a material inconsistency in the filing: the financial statements report quarterly cost of revenue of $2.95 million and gross profit of $461,428, while the MD&A quarterly table reports $3.15 million and $261,428, respectively. The MD&A table also reports operating expenses of $549,954, versus $749,954 in the financial statements.
- Assess the sustainability and economics of epidemic-supplies trading, including whether costs can be controlled and contract pricing reflects input-cost volatility.
- Confirm the availability, timing, and terms of any CEO or other financing support, given demand-payable related-party balances and the going-concern warning.
- Evaluate lease payment obligations, customer and supplier concentration, receivable collectability, and the effect of the disposed subsidiaries on future operations.
- Seek updates on remediation of the disclosed material weaknesses and effectiveness of financial reporting controls.